How to Prepare for Potential Tax Law Changes

Steve Finkelstein, CFP®, Megan Gehrman, CFP®, Luke Strom, CFP®

One of the hottest agenda items in Washington, D.C., right now is President Joe Biden’s proposed tax law. The current bill sits at just over 880 pages and covers everything from personal income tax rates to the complex world of grantor trusts and estate tax exemptions.

As everyone waits to see how the proposed bill is received among the House and the Senate and what changes are needed for it to pass through a filibuster, we want to present the non-political facts of whats included and who this bill might impact.

You should be paying special attention to the proposed legislation if you:

  • Have an individual adjusted gross income (AGI) above $400,000 or are married and file a joint return with an income above $450,000
  • Itemize your deductions on your federal tax return
  • Have IRAs or any workplace retirement plans
  • Have an estate value greater than $3.5 million
  • Have potential to inherit assets in the future or have current grantor trust arrangements

Changes to Federal Income Tax

Current Law: Highest marginal tax rate is 37 percent on income in excess of $523,600 (individual filers) or$628,300 (married filing joint).

Proposed Law: For individuals with an income above $400,000 (married filing joint income above $450,000), the proposed plan is to increase the top Federal marginal tax rate to the pre-TCJA (Tax Cuts and Jobs Act) level of 39.6 percent.*

The TCJA was a 2017 bill signed by former President Donald Trump that made several significant changes to individual and corporate taxes. As a reminder, the TCJA changes were already set to expire in 2026 (assuming no further changes to the bill were passed), based on language from the original 2017 legislation. In addition to the top marginal tax rate increase, there is language in the bill for a potential increase of the 32percent and 35 percent federal tax brackets.**If enacted, these new rates would apply to taxable income earned after December 31, 2021.

Changes to Capital Gains Tax

Current Law: Individuals pay either 0 percent,15 percent or 20 percent on realized capital gains when selling an asset held longer than 12 months (long-term capital gains); the 20 percent capital gains rate applies to single filers with a taxable income above $445,850and to those married filing joint with a taxable income above $501,600.

Proposed Law: The new law seeks to increase the maximum capital gains tax threshold from 20 percent to 25percent. If passed, this increase would apply to any capital gains realized on or after September 13, 2021, and would apply to single filers with a taxable income above $400,000 and to those married filing joint with a taxable income above $500,000.

An additional proposal is under consideration to apply the top marginal income tax bracket of 39.6 percent on realized capital gains for those earning in excess of $1 million.

Changes to Estate Taxes 

Current Law: The unified federal estate tax exemption stands at $11.7 million per person; the top tax rate for estates above this threshold sits at 40 percent.

Proposed Law: The current proposed law would reduce the federal gift and estate tax exemption from $11.7million to $6.2 million, as of January 1, 2022.

The proposed law would accelerate an already pending reversion when the TCJA sunsets on January 1, 2026. That is, the estate tax exemption was set to reduce to the newly proposed limits ($6.2 million) starting in2026—the current bill would simply accelerate this change.

Changes to Retirement Accounts

Current Law: Roth IRA conversions are allowed without income limitation (income tax is due on amount converted).

Proposed Law: Roth IRA conversions would be prohibited for those with incomes exceeding $400,000 (individual) or $450,000 (married filing jointly).

Current Law: Roth contributions are prohibited for individuals with a taxable income above $140,000 or married couple with an income above $208,000; there is a “back-door” Roth IRA strategy through contribution to a nondeductible IRA and subsequent conversion to a Roth IRA, which allows higher income earners to make Roth contributions today.

Proposed Law: The “back-door” Roth IRA contribution strategy would be eliminated.

Current Law: The required starting date that individuals must start withdrawing from their employer-sponsored plans and traditional IRA accounts is by April 1 after an individual reaches the age of 72.

Proposed Law: The new law would implement a tiered system that would increase the required minimum distribution age to 73, 74 or 75, depending on the date in the future in which you reach those ages.

Key Takeaways

While the likelihood of the current bill being passed as originally drafted is extremely low, the likelihood of tax and estate law changes in the coming year is almost a certainty. To that end, we will be holding special Tax and Retirement Planning education events for the members of AAA Minneapolis in April 2022 to discuss any updates to the proposed bill (or discuss impacts of passed legislation) and more important, answer your questions. Find an event and register now!

Steven C. Finkelstein, CFP®, Megan E. Gehrman, CFP® and Luke J. Strom, CFP® are financial advisors at SterlingRetirement Resources, Inc., 120 Broadway Ave S., Suite 200, Wayzata, MN 55391. 763-762-3400. For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither CeteraAdvisor Networks LLC nor any of its representatives may give legal or tax advice. Securities and advisory services offered through Cetera Advisor Networks LLC, Member FINRA/SIPC, a Broker-Dealer and Registered Investment Advisor. Some advisory services also offered through AdvisorNet Wealth Management. Cetera is under separate ownership from any other named entity.

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